Technical analysis, as a subject, is very vast. It is not a game of snake and ladder where you can go up and down with just a dice in your hand. It is a well thought out study of every technical aspect of the stock market. It is much beyond the charts and patterns and of course, the little knowledge that you have about the markets. Let’s discuss what are the common problems in technical analysis and how we can overcome them one by one.
Stop system hopping as much as possible
System hopping is one of the major problems in technical analysis which basically means switching from one system or strategy to another. Traders do that because they do not find profitability in one system.
“Practice makes a man perfect.”
You must have heard this saying but traders often do not follow this. They hop from one system/strategy to another in expectation of profit from that system when ideally; they should stick to one strategy that suits them the best, learn it in and out, and follow it religiously to brush aside any possibility of confusion and misleading.
Technical Analysis is Subjective
Subjectivity means that different person may have different opinions based on their feelings, tastes or opinions. When we talk about subjectivity in technical analysis, it means that there can be N number of opinions about a particular stock depending on the strategy or system a person uses, or the time frame on which he/she sees the charts.
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Also, different people have different ways of seeing a chart. The same stock with the same time horizon and with the same time frame may be seen differently by different people.
What really matters for Technical Traders?
In trading, emotions affect a lot of trading decisions and the way a person views markets. For a trader, emotion can be one of the problems in technical analysis. It is more important to ensure that emotions affect his/her decisions as less as possible than to understand what strategy or system he/she uses.
Execution and orders
It is very crucial in trading that a trader places the right entry and exit points and spot the right stop loss so that he can make profits from his trade.
Many of the traders in the market get affected by the emotions flowing in the market and tend to mismanage their trades. It is very important for a trader to know what works for them the best and stick to it even if they incur a loss.
Before entering into a trade, a trader needs to know how much risk they can take for the reward they are expecting from the stock. This will help them define their risk-reward ratio and accordingly, they can make profits also.
The Imperfection of price patterns
Often it is seen that traders, who are in search of the perfect pattern or strategy, miss out on the stocks that they think would give them a loss when actually they are ones yielding profits.
In the stock market, it is not always the case that price action patterns and moves will always form the way it is shown or taught in the books. In fact, they sometimes behave in the opposite way but that does not mean that they cannot yield profits.
Price can move in any direction it wants and it’s important to understand that the traders keep themselves flexible enough to keep up with the price action move and not always rely on the bookish knowledge.
Don’t get misled by patterns
Trading is not as easy as it seems to be. Everybody wants to have more and more profits as early as possible. In this process, people usually neglect the basic understanding of technicals. It is very crucial to have patience in the sock markets.
If you identify a certain pattern formation, wait for it to complete itself and check for the volumes and other confirmation signals and only then trade. What people do is they spot a certain pattern and they start trading, which is wrong and that is why patterns can often be misleading.
Learn basics of Math and Finance
For a trader, it is of utmost importance that he/she knows the basic calculations like knowing the target and stop losses after a trade is identified, and understand how the brokerage is calculated. Also, he/she should be able to calculate his/her risk-reward ratio so that they know how much loss they can bear for the reward they are expecting.
Why technical analysis can be unprofitable?
Most of the technical traders lose money in the stock market because of the lack of knowledge about the importance of caution a person should have in trading. Especially patterns like head and shoulders, support and resistance, trend lines, cup and handle, Elliot wave, Triangles, Flags, and Pennants are some of the patterns that need to be dealt with very cautiously when it comes to entries, stop loss and exit points.
To sum up, we can say that a technical trader needs to have some prior basic knowledge of the technicals in order to trade effectively. They should first identify the strategy that best suits them, applies it consistently, and sticks to it. System hopping should be reduced as much as possible as it may lead to losses that you could have avoided by sticking to just one system.
Apart from the above, he/she also needs to have some characteristics that a human being should possess discipline, patience, strong emotional strength etc.